Supreme Court and Second Circuit Issue Pair of Rulings Expanding Authority of Arbitration Tribunals in U.S.
Kelley Drye Client Advisory
January 24, 2019
In 1925, Congress passed and President Coolidge signed the Federal Arbitration Act (FAA), 9 U.S.C. § 1 et seq., which provides that arbitrators, not judges and juries, must decide the issues that the parties agreed to arbitrate.  But who decides what the parties agreed to arbitrate? And when an arbitration award is ambiguous, who decides what the award means?

In recent weeks, the U.S. Supreme Court, and the U.S. Court of Appeals for the Second Circuit, respectively, have issued rulings that, at least in theory, have put those two questions to rest.  In each case, it is the arbitrator who has come out ahead.

Earlier this month, in Henry Schein, Inc. v. Archer & White Sales, Inc., 202 L. Ed. 2d 480 (Jan. 8, 2019), the Supreme Court ruled, 9-0, that when the parties’ contract delegates the arbitrability question to an arbitrator, a court may not override that contract, even if the court believes the arbitrability claim is wholly groundless.

At issue in Schein was a contract requiring: “Any dispute arising under or related to this Agreement (except for actions seeking injunctive relief…) [to] be resolved by binding arbitration in accordance with the arbitration rules of the American Arbitration Association [(AAA)].”  After Archer and White sued, Schein asked the Court to refer the dispute to arbitration.  Archer and White opposed, arguing that the dispute was not arbitrable because its complaint sought injunctive relief.  The Fifth Circuit agreed, finding Schein’s motion to compel to be “wholly groundless” in light of the clear contractual exclusion for injunctive relief.

The Supreme Court reversed, explaining that the FAA “does not contain a ‘wholly groundless’ exception, and we are not at liberty to rewrite the statute passed by Congress and signed by the President.  When the parties’ contract delegates the arbitrability question to an arbitrator, the courts must respect the parties’ decision as embodied in the contract.”  The AAA rules, in turn, provide that an arbitrator—not the Court—decides whether an arbitration agreement applies to a particular dispute.  The case was reversed and remanded for further proceedings.

Schein does not cut judges entirely out of the process.  As the Court noted: “To be sure, before referring a dispute to an arbitrator, the court determines whether a valid arbitration agreement exists. … But if a valid agreement exists, and if the agreement delegates the arbitrability issue to an arbitrator, a court may not decide the arbitrability issue.”

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In November, the Second Circuit confirmed a second expansion of arbitral authority in Gen. RE life Corp. v. Lincoln Nat’l Life Ins. Co., 909 F.3d 544 (2d Cir. 2018).

At issue in Lincoln Nat’l was the doctrine of functus officio—which limits the power of arbitrators to alter an award once the arbitrators have decided the issue.  In that case, the District Court denied General Re’s initial petition to confirm an arbitration award, and granted Lincoln National’s cross-petition to confirm after the arbitral panel clarified the original award.

General Re argued that functus officio barred the arbitral panel from clarifying how the parties were to calculate the amount of the award: “The functus officio doctrine dictates that, once arbitrators have fully exercised their authority to adjudicate the issues submitted to them, their authority over those questions is ended, and the arbitrators have no further authority, absent agreement by the parties, to redetermine those issues.”

In Lincoln Nat’l, however, the Second Circuit announced that it was joining “the Third, Fifth, Sixth, Seventh, and Ninth Circuits in recognizing an exception to functus officio where an arbitral award ‘fails to address a contingency that later arises or when the award is susceptible to more than one interpretation.’” According to the Court, an arbitrator may clarify a final award on three conditions: “(1) the final award is ambiguous; (2) the clarification merely clarifies the award rather than substantively modifying it; and (3) the clarification comports with the parties’ intent as set forth in the agreement that gave rise to arbitration.”

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Schein and Lincoln Nat’l establish bright-line tests, but both leave questions unanswered. 

In Schein, where is the line between: (a) determining whether a valid arbitration agreement exists (permitted) and (b) determining whether an arbitration agreement applies to a particular dispute (prohibited)?  If the parties’ names can be found on a document with an arbitration clause, must they thereafter arbitrate the issue of arbitrability for all their disputes forever?

In Lincoln Nat’l, where is the line between: (a) a “clarification” that merely clarifies the award (permitted) and (b) one that substantively modifies it (prohibited)?  In making that distinction, is the Court not wading into the very substance of the arbitrable dispute?

Those issues will be hashed out in future cases.  For now, the one thing that is certain is that Schein and Lincoln Nat’l will both mean significant new work for arbitrators, and a potentially reduced role for the courts in arbitrable matters.  Draftspersons who wish to limit arbitrators’ roles in either respect should prepare clauses that reflect the parties’ intent.